DUN & BRADSTREET CORP DNB
November 04, 2011 - 1:42pm EST by
elehunter
2011 2012
Price: 65.00 EPS $6.05 $6.73
Shares Out. (in M): 49 P/E 10.8x 9.7x
Market Cap (in $M): 3,200 P/FCF 11.0x 10.0x
Net Debt (in $M): 780 EBIT 562 614
TEV ($): 3,980 TEV/EBIT 7.1x 6.5x

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Description

I am recommending DNB as a long at current levels, which I believe to have attractive risk/reward.  DNB was written up in March 2010 by sfdoj. 

http://www.valueinvestorsclub.com/value2/Idea/ViewIdea/30525

Not too much has changed with the company (on the margin) since then with the exception that DNB stock has underperformed the S&P by nearly 17% over that period.  The stock is trading at historically low valuation multiples (10x fwd FCF and 6.5x Ebitda) due to concerns over economic growth as well as client renewals affecting overall topline and bottomline growth.  Given the attractive characteristics of the business, I believe the stock price can serve as a catalyst, especially for private equity and strategic buyers, thereby providing some downside protection.  I believe DNB is worth $85 in a year, representing over 30% upside (implies 13x fwd fcf) with downside risk of ~$55.
 
As sfdoj has provided a detailed description of the company and background in his writeup, I will be more brief in my writeup below. 

Investment Thesis

  • Stable business with wide moat trading at an attractive valuation
  • Stock price is discounting negative top-line growth and recessionary scenarios for next several years
  • Opportunity for activism to create shareholder value

Summary Company Description

Dun & Bradstreet provides commercial information, including credit data and marketing information, to businesses worldwide.  DNB’s databases contain over 150 million business records and related tools and its customers use them to manage credit and supplier risk and convert sales prospects.  The company’s sales mix is about 65% Risk Management Solutions (catered toward Fortune 1000 clients), 30% Sales & Marketing Solutions (marketing lists, CRM solutions), and 5% Internet Solutions (primarily Hoover’s customer reports).

DNB also operates globally with 70% of revenues from North America and 30% from Asia and Europe.  In recent years, DNB has been actively pursuing tuck-in acquisitions in emerging markets such as China, India and Brazil.

Bull Case

  • Good business with high barriers to entry and wide moat. 

o     DNB’s global database is nearly impossible to replicate and has high barriers to entry. 

o     Data is focused on commercial clients and has less regulatory risk relative to consumer credit information services companies (Experian, Equifax, Fico)

o     DNB business has attractive financial characteristics – high ROIC, low capital intensity, high free cash flow generation, scalable margins and healthy balance sheet

  • Payoff to $120 mm in tech spend is around the corner. 

o     DNB embarked on a 2-yr $120 mm technology upgrade in 2010. 

o     Company expects to roll-out new products and extract further cost saves starting in mid-2012. 

o     Potential upside to consensus estimates, particularly if deep recession can be avoided

  • Attractive valuation.  Stock already discounting meaningful recession and flat to negative growth.

o     DNB is trading below 10x 2012 earnings and 6.5x forward EBITDA, near the low end of its historical valuation range.

o     Information Services comps are currently trading at 7-8x forward EBITDA multiples (but many are in consumer businesses which have far greater regulatory risks).

o     Buyouts by private equity and strategics have averaged above 9x EBITDA.

  • 3Q earnings were good and mgmt reiterated guidance.  Mgmt introduced a $500mm buyback program (15% of float).

Shareholder Value creation

While DNB management has had a history with financial innovation (spinoffs of Nielsen, RH Donnelly, Moody’s and IMS Health), they have been less active over the past decade.  I see 2 distinct opportunities for activism.

1)      Scenario 1: DNB is underlevered.  The company can raise debt (by 2 turns to 3.5x EBITDA) to repurchase shares.  This would be 35% accretive to earnings. (Note, DNB currently has a $500mm buyback program in place but I believe they have room to be more aggressive.)

Assumed interest rate on debt                                              5.00%

Effective tax rate                                                                    35.0%

Debt Capacity                                                                         $1,245

Assumed purchased share price                                             $68.00

Number shares to be repurchased                                          18.31

Percentage of total diluted shares                                           37%

                                                           

                                                                        2011                2012

EBITDA                                                             560                  572

Proposed Debt/EBITDA multiple                       3.5x                 3.5x

Total debt capacity                                         $1,960             $2,003

Current net debt                                              778                  758

Incremental debt raised for buyback              $1,182             $1,245

                                                           

Net Income (current)                                      299.8               306.2

Old Share Count                                             49.7                 49.7

Current EPS                                                    $6.03               $6.16

                                                           

Interest expense                                              62.2                 62.2

Tax-effected interest expense                         40.5                 40.5

Adjusted Net Income                                     259.3               265.8

Adjusted Share Count                                     31.4                 31.4

Post-Repurchase EPS                                     $8.26               $8.47

Accretion / Dilution (%)                                 36.9%              37.4%

 

2)      Scenario 2: 60% of DNB business in higher margin, more scalable Risk Management Solutions.  Remainder is in Sales and Marketing (marketing lists, customer files - fairly commoditized businesses) and Internet Solutions (no real synergies with rest of DNB).

                                i.            Persuade management to sell Sales and Marketing and Internet Solutions.  Possible buyers would be Acxiom, Epsilon unit of ADS, InfoGroup (owned by CCMP), Equifax.

                              ii.            Assuming a 5-7x EBITDA multiple for the SMS business and 2.5x revenues for the internet business, I arrive at roughly $1-1.1 bn valuation for these 2 businesses.

                            iii.            Using the after-tax proceeds of this transaction to repurchase shares would result in 5-7% accretion to EPS.

                            iv.            While earnings accretion is not meaningful, the new DNB with more focus on RMS will lead to a re-rating of the stock given its higher margin potential and more scalable platform.  I expect “Newco” to trade closer to a take-out value of 8-9x EBITDA, yielding a target price of $85-90 per share.

Risks to Investment Thesis

  • Continued weakness in US economy could lead to slower top line growth and client renewals.  3Q deferred revenues were flat vs 4% in 2Q.
  • Deterioration in C&I loan growth (big drive of demand for DNB products).  Although C&I loan growth has been holding steady in recent months.
  • Underfunded pension plan.  DNB’s pension is underfunded by about $400 mm. 
  • Exposure to Europe and fx.  Approx 10% revenue exposure to Europe and 25% non-USD.

Valuation

I view valuation through a targeted multiple and sum-of-the parts approaches.  Currently, info services comps trade at 7-8x forward multiples.  Furthermore, private equity transactions in the sector have averaged over 9x EBITDA multiples.  A SOTP analysis using a mix of private and current public market multiples (8-9x EBITDA for Risk Management Solutions and 5-7x EBITDA for Sales & Marketing) yields a target price of $85 per share. 

Catalyst

  • Near-term: Non-farm payroll releases and C&I loan data
  • 4Q11 and 1Q12 earnings (70% of contract renewals occur during this period)
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